This is an excerpt from Steve Blank’s book titled, The Four Steps to Epiphany.
Rather than focusing on the products a company may or may not possess, pioneers now focus on developing their customers, validating needs, mitigating risk, failing fast and failing often, accumulating scientific results of a portfolio of experiments, prototyping lightweight solutions, establishing a feedback loop with customers from day one, and building layers of value alongside customers with buy-in.
The four phases of the new model:
- Customer Discovery
- Customer Development
- Customer Validation
- Company Building
Step 1: Customer Discovery
The goal of Customer Discovery is just what the name implies: finding out who the customers for your product are and whether the problem you believe you are solving is important to them. More formally, this step involves discovering whether the problem, product and customer hypotheses in your business plan are correct.
To do this, you need to leave guesswork behind and get “outside the building” in order to learn what the high-value customer problems are, what it is about your product that solves these problems, and who specifically are your customer and user (for example, who has the power to make or influence the buying decision and who actually will end up using the product on a daily basis.)
What you find out will also help you shape how you will describe your unique differences to potential customers. An important insight is that the goal of Customer Development is not to collect feature lists from prospective customers, nor is it to run lots of focus groups. In a startup, it is the founders and product development that defines the first product.
The job of the Customer Development team is to see whether there are customers and a market for that vision. (Read this last sentence again. It’s not intuitively obvious, but the initial product specification comes from the founders vision, not the sum of a set of focus groups.)
The basic premise of Furniture.com and Living.com was a good one. Furniture shopping is time- consuming, and the selection at many stores can be overwhelming. On top of that, the wait for purchased items can seem interminable.
While these online retailers had product development milestones they lacked formal Customer Development milestones. At Furniture.com the focus was on getting to market first and fast. Furniture.com spent $7 million building its web site, e-commerce and supply chain systems before the company knew what customer demand would be. Once the web site was up and the supply chain was in place, it began shipping. Even when it found that shipping and marketing costs were higher than planned, and that the brand-name manufacturers did not want to alienate their traditional retail outlets, the company pressed forward with its existing business plan.
In contrast, at Design Within Reach Rob Forbes was the consummate proponent of a customer- centric view. Rob was talking to customers and suppliers continually. He didn’t spend time in his office pontificating about a vision for his business. Nor did he go out and start telling customers what products he was going to deliver (the natural instinct of any entrepreneur at this stage). Instead, he was out in the field listening, discovering how his customers worked and what their key problems were. Rob believed that each new version of the Design Within Reach furniture catalog was a way for his company to learn from customers. As each subsequent catalog was developed, feedback from customers was combined with the sales results of the last catalog and the appropriate changes were made. Entire staff meetings were devoted to “lessons learned” and “what didn’t work.” Consequently, as each new catalog hit the street the size of the average customer order increased, along with the number of new customers.
Step 2: Customer Validation
Customer Validation is where the rubber meets the road. The goal of this step is to build a repeatable sales road map for the sales and marketing teams that will follow later. The sales road map is the playbook of the proven and repeatable sales process that has been field-tested by successfully selling the product to early customers. Customer Validation proves that you have found a set of customers and a market who react positively to the product: By relieving those customers of some of their money. A customer purchase in this step validates lots of polite words from potential customers about your product.
In essence, Customer Discovery and Customer Validation corroborate your business model. Completing these first two steps verifies your market, locates your customers, tests the perceived value of your product, identifies the economic buyer, establishes your pricing and channel strategy, and checks out your sales cycle and process. If, and only if, you find a group of repeatable customers with a repeatable sales process, and then find that those customers yield a profitable business model, do you move to the next step (scaling up and crossing the Chasm.
Design Within Reach started with a hypothesis that its customers fit a narrow profile of design professionals. It treated this idea like the educated guess it was, and tested this premise by analyzing the sales results of each catalog. It kept refining its assumptions until it had found a repeatable and scalable sales and customer model.
This is where the dot.com furniture vendors should have stopped and regrouped. When customers did not respond as their business models predicted, further execution on the same failed plan guaranteed disaster.
Step 3: Customer Creation
Customer Creation builds on the success the company has had in its initial sales. Its goal is to create end-user demand and drive that demand into the company’s sales channel. This step is placed after Customer Validation to move heavy marketing spending after the point where a startup acquires its first customers, thus allowing the company to control its cash burn rate and protect its most precious asset.
The process of Customer Creation varies with the type of startup. As I noted in Chapter 1, startups are not all alike. Some startups are entering existing markets well defined by their competitors, some are creating new markets where no product or company exists, and some are attempting a hybrid of the first two, resegmenting existing market either as a low-cost entrant or by creating a new niche. Each of these Market Type strategies requires a very different set of Customer Creation activities.
In Furniture.com’s prospectus, the first bullet under growth strategy was “Establish a powerful brand.” Furniture.com launched a $20 million advertising campaign that included television, radio and online ads. It spent a total of $34 million on marketing and advertising, even though revenue was just $10.9 million. (Another online furniture startup, Living.com, agreed to pay electronic- commerce giant Amazon.com $145 million over four years to be featured on Amazon’s home page.) Brand building and heavy advertising make lots of sense in existing markets when customers understand your product or service. However, in an entirely new market this type of “onslaught” product launch is like throwing money down the toilet. Customers don’t have a clue what you are talking about, and you don’t have a clue if they will behave as you assume.
Step 4: Company Building
Company Building is where the company transitions from its informal, learning and discovery- oriented Customer Development team into formal departments with VPs of Sales, Marketing and Business Development. These executives now focus on building mission-oriented departments that can exploit the company’s early market success.
In contrast to this incremental process, premature scaling is the bane of startups. By the time Furniture.com had reached $10 million in sales, it had 209 employees and a burn rate that would prove to be catastrophic if any one of the business plan assumptions were incorrect. The approach seemed to be to “spend as much as possible on customer acquisition before the music stops.” Delivering heavy furniture from multiple manufacturers resulted in unhappy customers as items got damaged, lost, or delayed. Flush with investors’ cash, the company responded the way dot-coms tend to respond to problems: by spending money. It reordered, and duplicates began piling up in warehouses. The company was burning through investor dollars like cheap kindling. Furniture.com went from filing for a public offering in January to pulling its IPO in June 2000 and talking with bankruptcy lawyers. The company was eventually able to raise $27 million in venture funding, but at a lower valuation than it had gotten the last time it raised money. In a bid for survival, Furniture.com furiously slashed costs. The company, which had been offering free shipping for delivery and returns, began charging a $95 delivery charge. Then it laid off 41% of its staff. But it never answered the key question: Is there a way to sell commodity furniture over the Web and ship it cost-effectively when you don’t have a nationwide network of stores?
At Design Within Reach, Rob Forbes ran the company on a shoestring. The burn rate was kept low, first as a necessity as he scraped together financing from friends, family, and the casual investor, and then by plan as his team was finding a sales road map that could scale. Rob was finding a way to sell furniture without a network of stores – it was called a catalog.
The Path to Epiphany
The four types of startup markets
Since time immemorial a post mortem of a failed company usually includes, “I don’t understand what happened. We did everything that worked in our last startup.” The failure isn’t due to lack of energy, effort or passion. It may simply be due to not understanding that there are four types of startups, and each of them have a very different set of requirements to succeed:
- Startups that are entering an existing market
- Startups that are creating an entirely new market
- Startups that want to resegment an existing market as a low cost entrant
- Startups that want to resegment an existing market as a niche player
(“Disruptive” and “sustaining” innovations, eloquently described by Clayton Christensen, are another way to describe new and existing Market Types.)